What Determines Wholesale Prices for Network Elements in Telephony? An Econometric Evaluation
27 Pages Posted: 18 Feb 2004
Date Written: September 2002
The Bell Operating Companies ("BOCs") argue that Total Element Long Run Incremental Cost (TELRIC) prices set by State public service commissions have no nexus to the BOCs' actual forward-looking costs but are, instead, based on retail prices with the goal of ensuring that competitors have an adequate (if not outright excessive) margin, thus resulting in "parasitic" competition. This Policy Paper, however, empirically demonstrates that the data do not support the Bells' contentions, finding that the wholesale price for combination of unbundled elements is motivated primarily by forward-looking costs and secondarily by BOC retail profit margins. Simply stated, wholesale prices for UNE-P are not directly related to retail prices for local telephone service. In fact, rather than set rates below costs, the States more often than not have actually preserved some BOC profit in a politically sensible "50/50" split between the desired outcomes of new entrants and the incumbents. The fact that BOC margins are declining is an intended consequence of Section 251(d) the 1996 Act and a rational public policy, because TELRIC pricing deliberately does not incorporate the monopoly rents the BOCs have traditionally enjoyed in the wholesale prices for UNEs.
Equally as important, a financial analysis of the BOCs' own publicly stated retail and wholesale revenues and operational costs for local phone service refutes the BOCs' claim that wholesale revenues are insufficient to cover wholesale operational costs. Quite to the contrary, the data indicate that even though EBITDA margins for wholesale lines are approximately half that of retail lines, the BOCs' wholesale margins are nonetheless positive, with EBITDA margins in percentage terms (revenues minus cost divided by revenues) for retail and wholesale services averaging 55% and 40%, respectively, and the wholesale EBITDA margin averaging about 40% of the retail EBITDA margin.
Keywords: Telecommunications, Competition, Unbundling, TELRIC
JEL Classification: K23, L10, L50, L96, O33, 038
Suggested Citation: Suggested Citation